Deck 12: Financial Crises and Financial Regulation

Question 1

Why do governments want to maintain the health of the banking system?

Answer 1

Banks reduce information costs in the financial system.

Question 2

Banks face liquidity risk because

A) they can have difficulty meeting their depositor's demands to withdraw money.
B) they are unable to borrow from the Federal Reserve.
C) households and businesses may seek to borrow a large amount of funds in a short period of time.
D) governments tend to run high budget deficits.

Answer 2

they can have difficulty meeting their depositor's demands to withdraw money.

Question 3

What are two ways that governments can prevent bank panics?

Answer 3

First,a central bank can act as lender of last resort.Second,the government can insure bank deposits.

Question 4

A bank panic occurs when

A) a bank is worried that its loans will not be repaid.
B) an individual bank cannot meet its reserve requirements.
C) a bank lacks sufficient funds with which to make loans.
D) many banks experience a bank run simultaneously.

Question 5

Sovereign debt refers to

A) debt owned by the government.
B) bonds issued by the government.
C) debt owed to the government.
D) debt only issued by nations with kings or queens.

Question 6

Why do bank panics normally lead to recessions?

Question 7

Which of the following is NOT an accurate description of the recession that accompanied the financial crisis of 2007-2009?

A) GDP declined by more than twice the rate of the average recession.
B) Inflation rose at nearly twice the rate as the average recession.
C) It lasted just under twice as long as the typical recession.
D) Peak unemployment was about one-third higher than usual.

Question 8

Which of the following is NOT true of an insolvent bank?

A) Its net worth is negative.
B) It may be unable to pay off its depositors.
C) The value of its assets is less than the value of its liabilities.
D) It must have no more deposits.

Question 9

The original intention of the Fed's role as lender of last resort was to make loans to banks that were

A) not illiquid nor insolvent.
B) illiquid, but not insolvent.
C) insolvent, but not illiquid.
D) both illiquid and insolvent.

Question 10

What actions must a central bank take if it is trying to maintain a pegged exchange rate,but there's downward pressure on the value of its currency.

Question 11

The process by which simultaneous withdrawals by a particular bank's depositors results in the bank closing is known as a

A) contagion.
B) bank run.
C) financial crisis.
D) bank panic.

Question 12

Research by Reinhart and Rogoff indicate that most of the increase in national debt as a result of a financial crisis is due to

A) government bailouts of financial institutions.
B) increased spending on social welfare programs.
C) government stimulus programs.
D) sharp declines in tax revenues.

Question 13

The recession of 2007-2009 was

A) most severe recession ever experienced in the United States.
B) the first recession since the 1930s to be accompanied by a financial crisis.
C) caused by a stock market crash.
D) limited to the economy of the United States.

Question 14

According to research by Reinhart and Rogoff,recessions that involve financial crises have typically been ________ than recessions that do not involve financial crises.

A) longer and deeper
B) longer but milder
C) shorter but deeper
D) shorter and milder

Question 15

Congress created the Federal Reserve System

A) to serve as a lender of last resort.
B) to process the receipt of taxes received by the Internal Revenue Service.
C) to regulate the value of the U.S. dollar against foreign currencies.
D) to provide a source of mortgage loans to the residential housing market.

Question 16

If banks were required to hold 100% reserves,this would

A) put banks out of business.
B) put depositors at greater risk of losing their money.
C) prevent banks from making risky loans.
D) eliminate bank runs.

Question 17

The era of bank panics in the United States was effectively ended by

A) establishing the Fed as lender of last resort.
B) implementing the gold standard.
C) abandoning the gold standard.
D) introducing deposit insurance.

Question 18

Why might a nation seek to maintain a pegged exchange rate?

A) It makes business planning easier for firms involved in the global economy.
B) It removes the need to intervene in the foreign exchange market.
C) It ensures that the exchange rate will remain at its equilibrium.
D) It makes their currency more attractive on the foreign exchange market.

Question 19

The creation of a lender of last resort in the United States

A) occurred in response to banking panics.
B) was mandated in the U.S. Constitution.
C) occurred in response to the S&L crisis of the 1980s.
D) has been recommended by the Treasury in its report of late 1992.

Question 20

Banks have a maturity mismatch since

A) they borrow long term, but lend short term.
B) they borrow short term, but lend long term.
C) some of their loans are short term while others are long term.
D) some of their borrowings are short term while others are long term.

Question 21

During the early 1930s,the Fed was reluctant to rescue nonsolvent banks out of fear of encouraging

A) moral hazard.
B) adverse selection.
C) bank run.
D) sovereign debt crisis.

Question 22

Which of the following occurred following the failure of the Bank of the United States in 1930?

A) Interest rates on low-grade corporate bonds rose relative to high-rated corporate bonds.
B) Other banks in New York City suffered liquidity problems.
C) A bank panic ensued within days.
D) The stock market crashed.

Question 23

During the Great Depression,unemployment peaked at

A) 10%.
B) between 15 and 20%.
C) over 20%.
D) 81%.

Question 24

Banks with which type of loans were most likely to fail during the early 1930s?

A) mortgage loans
B) agricultural loans
C) commercial real estate loans
D) international loans

Question 25

By how much did real GDP decline between 1929 and 1933?

A) 18%
B) 20%
C) 27%
D) 81%

Question 26

What happened to real interest rates during the early 1930s?

A) They declined as nominal interest rates declined.
B) They rose as nominal interest rates rose.
C) They declined due to deflation.
D) They rose due to deflation.

Question 27

Describe the debt-deflation process.

Question 28

Why was the Fed reluctant to rescue insolvent banks?

A) It thought it may lead to moral hazard.
B) It thought it may lead to adverse selection.
C) It thought they were still liquid.
D) It did not think they were insolvent.

Question 29

How does deflation affect those with debt?

Question 30

What are the two most common reasons for a sovereign debt crisis?

Question 31

In what year did the economy return to normal conditions following the Great Depression?

A) 1933
B) 1937
C) 1941
D) 1945

Question 32

Who was effectively in charge of the Fed during the early 1930s?

A) Secretary of Treasury
B) Head of the Federal Reserve Bank of New York
C) Comptroller of the Currency
D) no one

Question 33

What are the likely effects of a sovereign debt crisis in terms of the government's ability to finance its debt?

Question 34

Which of the following did NOT significantly exacerbate the banking crisis of the early 1930s?

A) the Fed's decision not to make loans to insolvent banks
B) the large number of small, poorly diversified banks
C) the large number of rural banks that held agricultural loans during a time of falling commodity prices
D) the large amount of fraud carried out by bank managers

Question 35

Many economists believe

A) the Fed could have reduced the severity of the Great Depression by raising interest rates.
B) the Fed could have reduced the severity of the Great Depression by encouraging banks to make fewer loans to insolvent businesses.
C) bank failures increased the severity of the Great Depression.
D) the severity of the Great Depression and the policies of the Fed were unrelated.

Question 36

The process in which a cycle of falling asset prices and falling prices of goods and services can increase the severity of an economic downturn is called a

A) financial crisis.
B) bank run.
C) sovereign debt crisis.
D) debt-deflation process.

Question 37

In what ways did the stock market crash of 1929 increase the severity of the downturn?

Question 38

By how much did real investment decline between 1929 and 1933?

A) 18%
B) 20%
C) 27%
D) 81%

Question 39

What happened to consumer prices as measured by the CPI between 1929 and 1933?

A) rose by more than 20%
B) didn't change
C) declined by about 25%
D) declined by about 80%

Question 40

The recession that became the Great Depression began

A) two months prior to the stock market crash of 1929.
B) with the stock market crash of 1929.
C) one year after the stock market crash of 1929.
D) with the banking panics of the early 1930s.

Question 41

The third stage in the regulatory process is

A) a crisis.
B) response by the financial system.
C) regulation.
D) regulatory response.

Question 42

The second stage in the regulatory process is

A) a crisis.
B) regulation.
C) response by the financial system.
D) regulatory response.

Question 43

Which investment bank avoided bankruptcy by being purchased by JP Morgan Chase in March 2008?

A) Morgan Stanley
B) Lehman Brothers
C) Bear Stearns
D) Merrill Lynch

Question 44

Which investment caused the Reserve Primary Fund to incur heavy losses?

A) mortgage-backed securities
B) real estate investment trusts
C) commercial paper issued by Bear Stearns
D) commercial paper issued by Lehman Brothers

Question 45

A stress test of banks,such as that undertaken in the Spring of 2009,is designed to

A) ensure that banks have followed proper accounting standards.
B) make sure that banks are properly managed.
C) gauge how well banks would fare if the economy worsens.
D) estimate the impact of a bank panic on the overall economy.

Question 46

Losses in which holding resulted in BNP Paribas not allowing investors to redeem shares from three of its investment funds?

A) mortgage-backed securities
B) Lehman Brothers
C) Bear Stearns
D) real estate investment trusts

Question 47

The fourth stage in the regulatory process is

A) a crisis.
B) response by the financial system.
C) regulation.
D) regulatory response.

Question 48

How does the relationship between housing prices and rental rates provide evidence for or against the existence of a housing bubble?

Question 49

What are the four explanations given as to why the Fed did not intervene to stabilize the banking system during the Great Depression?

Question 50

What does it mean for a money market mutual fund to "break the buck"?

A) The value of its share declines below $1.
B) It incurs losses on its investments.
C) It increases its fees to more than 1% of net asset value.
D) It is unable to meet the demand for withdrawals by investors.

Question 51

In October 2008,the Fed cut its target for the federal funds rate to

A) less than 1%.
B) 1.75%
C) 2.25%.
D) 2.75%.

Question 52

All of the following were actions taken by the government or the Fed in response to the financial crisis of 2007-2009 EXCEPT

A) purchasing of most toxic assets such as mortgage-backed securities.
B) reducing the federal funds rate to near zero.
C) insuring deposits in money market mutual funds.
D) effective nationalization of Fannie Mae and Freddie Mac.

Question 53

The first stage in the regulatory process is

A) a crisis.
B) response by the financial system.
C) regulation.
D) regulatory response.

Question 54

By the summer of 2008,about what percent of subprime mortgages were overdue by at least 30 days?

A) 10%
B) 25%
C) 34%
D) 50%

Question 55

The primary motive for financial innovation during the regulatory process is

A) profit.
B) adherence to the new regulations.
C) return to the way business was conducted prior to the new regulations.
D) increase coordination with other financial institutions.

Question 56

What was the purpose of the stress test administered by the Treasury in 2009?

A) Evaluate potential losses of Fannie Mae and Freddie Mac.
B) Assess the viability of AIG.
C) Gauge how well the largest financial firms would fare if the recession deepened.
D) Evaluate the solvency of the major investment banks.

Question 57

When prices of new houses rise significantly faster than rent prices,this is evidence of a

A) debt-deflation process.
B) bubble.
C) financial crisis.
D) sovereign debt crisis.

Question 58

The situation where the price of an asset rises well above its fundamental value is called

A) contagion.
B) a bubble.
C) a panic.
D) disintermediation.

Question 59

What other markets were affected by the decline in the housing market beginning in 2006? Briefly explain why.

Question 60

Most of the TARP funds were used to

A) fund a stimulus package.
B) pay for losses incurred by Fannie Mae and Freddie Mac.
C) finance the operations of the Federal Reserve.
D) make direct purchases of preferred stock in banks to increase their capital.

Question 61

The Franklin National Bank Crisis had its greatest impact on the market for

A) commercial paper.
B) commodity futures.
C) negotiable certificates of deposit.
D) Eurodollars.

Question 62

ATS accounts

A) convert a corporation's checking account balance at the end of the day into an overnight repurchase agreement.
B) are the names given to NOW accounts outside of New England.
C) are negotiable certificates of deposit of less than $100,000.
D) were used during the Great Depression by depositors who had lost faith in conventional checking accounts.

Question 63

As a part of the Dodd-Frank Act of 2010,Congress amended a portion of the Federal Reserve Act so the Fed could

A) now make loans to individual companies.
B) only make loans to commercial banks.
C) no longer make loans to individual companies.
D) no longer make any loans to private corporations.

Question 64

In September 2008,the Fed and the U.S.Treasury

A) saved both Lehman Brothers and AIG from bankruptcy.
B) saved Lehman Brothers, but not AIG, from bankruptcy.
C) saved AIG, but not Lehman Brothers, from bankruptcy.
D) saved neither Lehman Brothers nor AIG from bankruptcy.

Question 65

Describe the four stages of the financial regulatory pattern.

Question 66

When did Regulation Q finally disappear?

A) 1934
B) 1945
C) 1986
D) 2000

Question 67

Negotiable certificates of deposit were developed in order to

A) compete for loan business that had been going to the commercial paper market.
B) circumvent interest rate regulations on deposits.
C) increase assets that were acceptable as collateral for discount loans.
D) circumvent reserve requirements.

Question 68

What is meant by senior debt?

A) debt that has been around for the longest period of time
B) debt that must be paid before junior debt is paid
C) debt owed to the federal government
D) debt issued by the federal government as opposed to states or corporations

Question 69

In 1971,money market mutual funds were introduced as an alternative to

A) commercial paper.
B) Treasury bills.
C) repurchase agreements.
D) bank deposits.

Question 70

With respect to Lehman Brothers,Fed chair Ben Bernanke argued that

A) because Lehman Brothers was insolvent, the Federal Reserve Act barred the Fed from saving the company.
B) even though Lehman Brothers was not considered insolvent, the Federal Reserve Act barred the Fed from saving the company.
C) because Lehman Brothers was not considered insolvent, the Federal Reserve Act required the Fed to save the company from bankruptcy.
D) because Lehman Brothers was insolvent, the Federal Reserve Act required the Fed to save the company from bankruptcy.

Question 71

As of 2016,what portion of bank assets were owned by the five largest bank holding companies?

A) less than 10%
B) approximately 25%
C) more than 50%
D) almost 80%

Question 72

Which of the following banned most proprietary trading by commercial banks?

A) Consumer Financial Protection Bureau
B) Regulation Q
C) Greenspan Rule
D) Volcker Rule

Question 73

Which aspects of a bank's operations are evaluated as part of the CAMELS rating system?

Question 74

NOW accounts were developed in order to

A) circumvent Regulation Q.
B) provide banks with a checkable deposit on which they did not have to pay interest.
C) provide banks with a liquid, interest-earning asset.
D) provide banks with a means of earning interest on the funds in their reserve accounts with the Fed.

Question 75

Disintermediation refers to the

A) failure of financial intermediaries due to moral hazard problems.
B) failure of financial intermediaries due to adverse selection problems.
C) movement of savers and borrowers from banks to financial markets.
D) removal of government regulations of financial intermediaries.

Question 76

The usual response of the banking system to new government regulations is

A) evasion through whatever means are necessary.
B) strict compliance.
C) an attempt to circumvent the regulations through financial innovation.
D) bankruptcy.

Question 77

Regulation Q

A) prohibited interstate banking.
B) placed ceilings on allowable interest rates on time and savings deposits.
C) required all banks to hold reserves against demand deposits.
D) broadened the basis on which the Fed could make discount loans.

Question 78

Regulation Q was intended to

A) maintain banks' profitability by limiting competition for funds.
B) increase the reserves banks would hold against demand deposits.
C) increase the reserves banks would hold against time deposits.
D) eliminate the need for discount loans.

Question 79

What are the primary reasons for and against a policy of "too big to fail."